A Ku Indeed!

The Tao of Running to the Hills

Posted in Life by Chris on October 12, 2008

Other than an old (and good) Iron Maiden song, this seems to be the mantra of most people with any financial exposure to the equity markets lately. Which makes me wonder about the wisdom behind the running. When markets crash like this, should you run? Hold still? Buy?

My own take — and I’m surely no financial expert — is that the time for selling is long past. If anything, it is time to buy. Cautiously, if you are buying individual stocks, and a little less cautiously if you are buying index funds, but still I take it that it is time to buy (averaging in seeming to be the best bet). At heart I’m a bit of a contrarian. When people are screaming for the exits, that’s when it’s time to fight through the crowd to get in.

A friend of mine recently disagreed with me about this, suggesting that this might be good advice in a rational market, but this isn’t a rational market. I think I disagree. Markets, in my opinion, are not rational at all — there’s nothing peculiar about “this time” that makes it different, other than mere scope. I remember hearing the same claim in 2000 — that the tech market “was different” and there was no bubble. There was. I remember hearing it again around 9/11 — that this crash was “different” and changed the markets forever. They were wrong too.

Markets trade a great deal on perception and emotion. In this situation, there’s a perception of perceived financial collapse, or “depression,” so they are running to take money from the market and hide it under the mattress, or at best in CDs. Panic and fear drives price, just as much as in the tech bubble excessive greed and optimism did, in the opposite direction.

But there’s an element of Taoist wisdom that we can apply here. First, that we need to be ready for change. The markets don’t just “go up.” They also go down, and sometimes quickly. The second is that where one opposite becomes more and more prevalent, the other opposite too becomes more and more present in the background. So here, when one opposite is pushed — fear and perceived collapse — another comes into existence, namely opportunity and hope of reconstruction. Where one can see failure all around, the possibiltiies for success start to come into existence as well. One opposite doesn’t exist without the other. The third point is that being successful in the financial markets, I think, requires that one learn to become less “fixated.” If the “Way” or “Tao” is the market itself, then Xunzi has a point — we need to learn to “see all sides”. Instead of seeing just “one corner” (failure), we need to learn to see the many different perspectives and paths at work in any one given situation. To achieve success, we need to recognize failure but at the same time not “get fixated”. We need to be a bit more detached from the “hubbub” and be more sensitive to the changing (and various) dynamics of the Tao, to be open to passively adapting to changing conditions.

Given that perception and emotion is so key, eventually the other opposition pairs (opportunity and success) will become apparent. Emotion will shift over to hope, and the buyers will stream in. After all, a bargain is a bargain, and eventually even the panicked and fearful see that (though some see it too late). Once this happens, and the buying begins, the floor sets in, and the market outlook changes yet again.

And there are, in my opinion, a lot of individual and general bargains out there!

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7 Responses

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  1. Jonah said, on October 12, 2008 at 8:20 am

    A perfect example of a logical and rational argument that may not survive reality. I’ve struck camp and headed for the hills after losing about 25% of my portfolio since last year. Part of the thundering herd. That said, once I sold, I watched what had been my holdings drop another ten-fifteen percent last week, while my gold went up slightly.
    You are most likely correct that bargains abound in the market today. However, as the financial paradigm shifts in the next few months, being able to recognize them is, in my opinion, highly doubtful.

    There are just too many unknowns right now, to many strong forces acting unpredictably, to may a reasonable gamble.

    Let’s see which philosophy makes it through the year.

  2. Chris said, on October 12, 2008 at 8:59 am

    J –

    I think the ability to recognize particular stock bargains will be difficult, no doubt — especially in certain sectors such as the financials. Overall, however, other non-financial sector particular stocks have taken quite a beating “by association” so to speak, and are trading at long time lows. An possible example: KO (Coke). At a 10 year low, and nothing fundamentally wrong with the company. Still, one doesn’t have to buy stocks, there are sector indexes or larger indexes for that matter.

    Moveover, I would never encourage two things:

    1. Putting all your money in the market. Mine isn’t all in the market — it’s in a variety of places.

    2. With the percentage of cash a person is willing to put in the market, going “all in” at a single time is not well advised. The best strategy is to parcel out the additions over a period of time, just in case there is further downside from here (and there might well be).

    As is always the case with this sort of thing, “we’ll see”.

  3. Adam said, on October 12, 2008 at 3:13 pm

    Chris,

    It’s easy enough for me to prognosticate, given that I don’t have anything at stake and have nothing in the way of expertise in this area. But I don’t think I was implying that the markets were normally rational. Anything but! Markets are much moodier than a calm rationality would suggest. What I was trying to say is that the current market may not function like markets normally do.

    If that’s true, normally sound rules such as “when the market is down, look for bargains” (a version of the tried and true, “buy low, sell high”) may not be as effective. As I understand it, what has pushed the market off a cliff lately is the credit crunch. Even good companies that are undervalued may not be able to borrow money because banks can no longer offset their risk with lucrative mortgage securities. No credit for some companies = no growth. And many of them have been betting unrealistically on growth to begin with.

    In such a situation, companies with a lot of cash on hand tend to thrive, and some of these now have artificially low prices. But the Fed has cut interest rates so much that the dollar is at risk. Thus, cash on hand is also not what it used to be.

    I’m not saying there aren’t bargains out there. I’m sure history will show that there were. But the thing that makes a credit crunch/weakening dollar 1-2 punch such a threat is that it undermines the tools that companies with good fundamentals make use of all the time. Some companies with traditionally “good fundamentals” may not be able to weather this market. Some will. The two points of crisis are fundamentals of the market itself and can potentially drag down both bad and good companies.

    I’m sure we agree on a lot of this, so I’m curious about what criteria you’re using to look for bargains.

  4. Chris said, on October 12, 2008 at 3:22 pm

    A;

    There might be a number of jointly used criteria. Like:

    1. At a long time low (10 year low, say).
    2. High cash on hand
    3. Very low debt
    4. Defensively oriented companies

    There are a lot of companies meeting (1). There are quite a few meeting (1) to (3); say Microsoft, Berkshire Hathaway, and some that meet all four, like Coke.

    I think criteria (2) and (3) are protections against the credit crunch. With high cash and low debt, you are less vulnerable. Microsoft, for instance, has no debt whatsoever, and lots of cash. Similar with Berkshire.

    Criteria (4) is a recession picker. People drink soda whether the economy is running well or not.

    Criteria (1) is just a value play criteria.

  5. Chris said, on October 12, 2008 at 3:26 pm

    A;

    I should add, of course, that if the Dow dumps and keels over — which is always possible — then in the case of Coke, say, criteria (1) through (4) could still hold, the only difference being that instead of shares selling for 40 each, they could be selling for 5.

  6. Chris said, on October 13, 2008 at 5:48 pm

    Pretty amazing day in the market today!

  7. Bill Haines said, on October 14, 2008 at 6:52 pm

    The Dao moves by returning.

    http://www.newyorker.com/humor/2008/03/03/080303sh_shouts_handey


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